Why a Large Refund is Not Necessarily a Good Thing

By Randall Orser | Personal Income Tax

Another tax year’s been filed, and you’re excited as you’re getting a huge refund again this year. That’s great! Or, is it? A large refund is really saying you’re not managing your money as well as you probably could. Financially, getting a refund every year may be doing more harm than good. Wouldn’t you rather get that money on each pay cheque, rather than in one lump sum? Hopefully, after you read this you’ll talk to your human resources department, tax preparer, and your financial planner.

What Does That Large Refund Mean?

What you’ve basically done when you get a large refund is loan the government your funds for a whole year without any interest. Why would you do that? You probably wouldn’t loan a friend or family member money without interest, but you give it to the government. Just think of the ways you could use that large refund, even if it’s only $2,000, you could put that money into an RRSP, or TFSA. Or, invest it into non-registered investments to make some additional cash.

What Should You Do Instead?

If you’re finding that large refunds are a way of life, then you need to figure out what to do so you don’t get those large refunds. The first thing to do is talk to whomever is in charge of payroll at your work: boss, payroll preparer, human resources, etc.

Get a copy of Form TD1, Personal Tax Credits Return, and go through each section and fill in amounts that apply to you. The TD1 form used to determine the amount of tax to be deducted from your employment income or other income, such as pension income. The payroll person, or your tax preparer, can help you figure out the amount of tax exemptions for which you qualify, and fill out the form. You should do a new TD1 each year.

If you find that your tax situation has changed during the year, you can update the TD1 at any time. Many things could change during the year, such as a marriage, divorce, children aging out of credits or going off to college, which could cause either a balance owing or a large refund.

Now What?

You’ve talked to your payroll department, and made the changes to your TD1. You will start to see an increase in your pay cheque as less tax is coming off. The amount won’t be huge; however, you need to look at the overall view. This is where things can get interesting. Figure out how much extra you’re getting on each pay cheque, and setup a new direct deposit with work for that much to go into a savings account (or even a TFSA). If you can’t do that through work, then an automatic transfer into a savings (or TFSA) account will work too. Whether the amount is $20 or $100, do this each pay, and watch your savings grow.

Getting that large refund at tax time, is not necessarily a good thing, especially if you’re using to pay certain bills that come due at that time, such as property taxes. You’re much better off taking that money for yourself each pay cheque, rather than giving it to the government interest free.

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